Pegram v. Herdrich -The Supreme Court HMO CaseWhile the Supreme Court Allowed the HMOs to Win a Battle,It May Have Set Them Up to Lose the WarBy Thomas L. Knight

In the midst of the maelstrom of spin-doctoring about who won, who lost, and how much, which typically follows most Supreme Court decisions these days, it is important to understand the limited scope of what the Court actually held in Pegram v. Herdrich, and to recognize the substantial value of some of the Court’s reasoning for those attorneys who represent people injured by medical negligence. Admittedly, the Court’s holding makes it clear that it will not judicially abolish the essential financial incentive structure of HMOs, but most medical negligence attorneys would not have expected the Court to do that anyway. The reality is that if most of the HMOs of today are to be relegated to their proper place in the past history of health care, it will be because the obvious ethical conflicts they create for doctors, together with the increasing number of atrocities of treatment stemming from those conflicts, will become so repugnant to so many of the people in our Country that the legislatures eventually will have to mutate that financial incentive structure by regulation until it evolves out of existence.

The Court’s specific holding in Pegram was that Congress did not intend the fiduciary obligation of ERISA (the federal act regulating federally funded benefit plans) to apply to HMO treatment decisions under an ERISA benefit plan. Therefore, a patient cannot bring a claim for breach of fiduciary duty under that ERISA provision for a treatment decision which injures the patient. That is really a pretty narrow holding. Most medical negligence attorneys have not tried to bring any ERISA breach of fiduciary duty claims (which is understandable, since, in all probability the remedies would be those under the ERISA fiduciary provision, and they would not really help the clients); therefore, the holding is not likely to have a significant impact on the work that plaintiffs’ attorneys normally do in the medical negligence arena.

A careful reading of Pegram v. Herdrich, also reveals that there is nothing in the Court’s reasoning which in any way infringes upon the right or ability of patients to bring traditional medical negligence claims against doctors and hospitals. It did nothing to further curtail or inhibit negligence actions against HMOs based on a theory of actual or apparent agency for the acts of its physicians. It did not suggest that HMOs cannot or should not be held directly liable for their own negligence (e.g., negligent utilization review, negligent hiring, etc.). For that matter, it did not even foreclose future breach of fiduciary actions against HMOs in the context of non-treatment decisions that are part of the administration of the plan.

In addition to the fact that the Pegram decision did nothing to impede plaintiffs’ attorneys in the prosecution of traditional medical malpractice actions, even against HMOs, the Court’s discussion, at least in some instances, inspires some real hope for the future as plaintiffs’ attorneys try to rectify the harm done to so many people by the inherently hurtful nature of typical HMO systems. Perhaps the most encouraging part of the Court’s reasoning was its description of how HMOs work and how they differ from traditional fee-for-service health insurance plans. Many trial lawyers doing medical negligence cases have seen and understand the terrible consequences of the conflict of interest created for physicians by the realities of the capitation and utilization review concepts inherent in most HMOs; but much of the public does not yet truly believe what the trial bar knows. There remains a real need for the public to be objectively educated about the incentives HMOs use to cause doctors to provide less care. When enough people learn and are convinced about what is really going on, it is not likely that they will tolerate it for long. The Pegram Court’s discussion of HMOs is strong ammunition for that objective educational process.

At pages 5 - 9 of the June 12 slip opinion in Pegram, the Court was apparently responding to the plaintiff’s argument that her claim of breach of fiduciary duty in the Carle, doctor owned, HMO plan, was not an attack on all HMOs. The Court rejected the plaintiff’s argument, concluding that courts are not capable of the kind of complicated fact-finding and debatable policy considerations that might distinguish one HMO from another on the fiduciary breach issue, and that therefore they must assume for their purposes that the issue is the same in all HMOs.

As part of that discussion, the Court noted that because all HMOs employ a system where they receive a fixed fee for each patient, they have to take steps to control costs in order to succeed economically (e.g., utilization review and pre-certification). The Court went on to observe that:

"These cost controlling measures are commonly complemented by specific financial incentives to physicians, rewarding them for decreasing utilization of health-care services, and penalizing them for what may be found to be excessive treatment [citations omitted]. Hence, in an HMO system, a physician’s financial interest lies in providing less care, not more." (p. 6)

The Court acknowledged that the only check on the influence of the physician’s financial interest to provide less care is the doctor’s professional obligation to provide the covered services with a reasonable degree of skill and judgment in the patient’s interest. With respect to the effectiveness of the doctor’s professional obligation as a safeguard, the Court noted that:

"...today, many doctors and other observers argue that HMOs often ignore the individual needs of a patient in order to improve the HMO’s bottom lines [citations omitted]" (p.7)

These statements, made by the highest court in the land, after thorough consideration of the available literature and extensive briefing of the case, may be just what is needed to help the public begin to believe the truth of what goes on in the HMO systems of health care.

A caveat at this point is that the Court, in Pegram quite clearly takes pains not to say anything which might be construed as its opinion that HMOs are less good for society than traditional fee for service plans. In fact, in what is believed to have been an inappropriate analogy, the Pegram opinion suggested that traditional fee-for-service insurance systems, just like HMO systems, depend upon the doctor’s sense of professional judgment to prevent the financial interest influence from affecting his or her practice. (pp.6 - 7) It is actually somewhat disconcerting that the Court, in its effort to appear neutral, seemed to imply that the two situations were of the same valence in that regard. It is submitted that they are not. In the fee-for-service situation, if the doctor’s sense of professional obligation fails as a check upon his or her financial incentive, he or she provides more care than necessary and there at most would be a slight incremental increase in health care costs. In the HMO system, if the doctor’s sense of professional obligation fails as a check upon his or her financial incentive, the patient does not get necessary care and may die or suffer permanent harm. Those different societal risks resulting from the failure of a doctor’s moral compass simply are not equivalent.

In any event, the Court quite clearly establishes in Pegram that it is incontestible that HMO systems, by their very nature, encourage doctors to provide less care to their patients. And that is an extremely significant observation. The Court’s own words, succinctly stated on page 8 of the June 12 slip opinion were, "... inducement to ration care goes to the very point of any HMO scheme...". It is likely that the majority of the public, when they realize that they are risking their very lives and the lives of their loved ones, will opt against such systems, even if the alternatives include a risk of increased cost of health care. They will choose, instead, to have the insurance industry focus its cost-cutting effort on detecting the excesses of unscrupulous doctors. It is incumbent upon plaintiffs’ medical negligence attorneys to use the findings of the Supreme Court in Pegram to help educate the public about the evils of HMOs.

Either purposely, or inadvertently, the Court in Pegram, in addition to helping medical negligence attorneys in the important task of educating the public about the real nature of HMOs, also has provided some good hints as to the direction the campaign against HMOs should take. In declaring that the societal value of HMOs, compared to other forms of health insurance, is not an issue that is well-suited for the judiciary, the Court made it quite clear that this is an issue that deserves legislative consideration. (p.8) Moreover, on page 8 of the June 12 slip opinion, the Court stated:

"Since inducement to ration care goes to the very point of any HMO scheme, and rationing necessarily raises some risks while reducing others (ruptured appendixes are more likely; unnecessary appendectomies are less so), any legal principle purporting to draw a line between good and bad HMOs would embody, in effect, a judgment about socially acceptable medical risk. A valid conclusion of this sort would, however, necessarily turn on facts to which courts would probably not have ready access: correlations between malpractice rates and various HMO models, similar correlations involving fee for service models, and so on." [emphasis added]

This passage from the Pegram opinion appears to offer encouragement for scientific study of the effect that HMO capitation and utilization review practices have had upon the frequency of medical malpractice. It may be that some medical school will undertake such a project (or perhaps ATLA). In the meantime, those attorneys representing the injured victims of medical negligence should record and disseminate those cases where they develop solid anecdotal evidence of physicians withholding care because of the financial incentives provided by the HMO with which they are associated. (For example, this firm had a case where there was testimony that the doctor refused to treat the plaintiff further, stating that, "she had already cost him too much money.")

In conclusion, it is submitted that although it would have been a great step forward if the Supreme Court, in Pegram v. Herdrich, had turned thumbs down on HMOs by allowing Herdrich’s breach of fiduciary duty claim, rejection of that claim is not likely to have a significant negative impact on the traditional work that plaintiffs’ medical negligence attorneys do. The Court’s reasoning, however, offers hope and encouragement for the battle against the insidious practices of HMOs that continue to foster negligent medical care of our citizens. It contains very credible evidence that HMOs strongly encourage doctors to withhold care in order to keep costs down, and it gives direction as to how to build a case against HMOs for legislative change. Plaintiffs’ attorneys simply must continue the valiant effort on behalf of that very worthy minority of citizens whose lives are forever altered by the harms of medical negligence.

Thomas L. Knight is a partner in the Wheaton firm of Walsh, Knippen, Knight & Diamond, Chartered, which concentrates its practice on medical negligence and other major personal injury litigation. He graduated from the University of Illinois College of Law in Champaign in 1970.